Thursday, 8 October 2009

Why not cut passive income?

An Saoi: This morning, listening to Morning Ireland, I was struck by Cathal MacCoille’s interview with Bobby Kerr, the founder of the Insomnia group of coffee shops, which you can hear here. Mr Kerr was asked on to discuss the demise of the O’Brien Sandwich franchise. He described how property interests had strangled that business and could put other businesses such as his in danger also. He had cut his prices by 25% to stay competitive, but his rent of course had remained the same. He also clearly expressed support for the minimum wage and the need to pay and protect employees.

Effectively, Mr Kerr and his employees are now working for Insomnia’s landlords, who have complete protection under the law. They sit by without contributing anything to the business, able to increase the rent if Mr. Kerr is successful and if he is not, still get their money. Rent reviews can only go one way without any obligation to share the hard times.

Right wing forces have won the argument to date, suggesting that it is salaries and wages that need to be cut to bring Irish competitiveness into line. Little or nothing has been said in relation to passive income, such as rents and the various tax subsidies such income attracts.

Pay and conditions have been agreed between employers and employees after negotiations, but it is proposed that those agreements should be torn up, or at least suspended. However, there is no quid pro quo suggested in relation to rents.

In the retail & services sectors, the level of rents has a material bearing on the final cost of goods and services. Realistic rents are part of any adjustment to the cost base in the Irish economy. A move to rents based on turnover, as is already the case with some more recent developments, and really independent arbitration, which can force rents down as well for all commercial tenants as up are needed now.

The level of protection granted to landlords is a problem for all of those involved in commercial activity in Ireland and also to the Public Sector. I have commented elsewhere on this site about the insidious way that the property game still hangs over us. It is time to force commercial rents down now to give people like Mr Kerr a chance to survive. Why should he and others be sacrificed on the High Altar to the false god, NAMA?


tgmac said...

Isn't rents-rentiers the classical dilemma facing any economy? If the premises is new construction, the rentier has provided the premises and economy activity through its construction plus taken on risks which currently must be rewarded. Supply and demand for such premises should be the overwhelming consideration in arriving at rental prices according to classical theory.

Playing devils advocate, why did the coffee shop enter into what it now considers to be an overpriced rental agreement? Surely they ran their profit/loss projections before entering into an agreement and planned for adverse outcomes such as we are experiencing.

Really, the only way these "small" concerns can affect rents is through concerted rent strikes of some sort. That would be a sight to behold.

I've noticed up our way that several businesses have stopped trading not because they couldn't make a profit but because the profit was not up to expectations. A serious bout of "Del-boy" (we'll be millionaires this time next year Rodders) has taken a grip on the Irish business mentality. This is as much a psychological as it is a structural deficiency in addressing the high cost of doing business in Ireland.

Mack said...

What role does mark-to-market accounting play in this?

I've heard that commercial landlords are reluctant to reduce rents, even at the expense of keeping properties empty, as it would force a write-down in their book value and hence impact their solvency. Anybody know if there is any truth in this?

An Saoi said...

Thank you both for your comments.To take them in reverse, yes Mack, I think theat many landlords are fighting a vain battle because rents are a basis for valuing a property. However there is an obligation for accounting to regularly revalue property held for investment purposes. Rent is only one basis for valuing a property and it is inconcievable that auditors are not forcing companies to revalue investment properties.

Tgmac, many people buy a lease at one rent, which is perfectly acceptable only to find the rent increasing by 100% or even 200% at the next rent review. There is no independent arbitration service. Certainly, I have seen people closing businesses which remain profitable. However in many cases the risk of future losses outweigh the return on the working capital required. Supply and demand does not work in the Irish property market, because the law was drawn up in a different time. The right to a long lease was supposed to be a protection for a tenant, rather than a millstone around their necks. Upward only rent reviews made sense perhaps when there was a reasonable rate of inflation.

Anon of Ibid said...

@An Saoi,

You wrote:
"Supply and demand does not work in the Irish property market, because the law was drawn up in a different time."

Indeed. This anecdote will not be an apples-to-apples comparison since it concerns residential propert, but the case is not that different:
I was made redundant earlier this year and a rent I could easily pay has now become onerous. Needing to possibly break the lease, I went back over the contract and started to research relevant laws. To my surprise, the bulk of law in Ireland pertaining to renter/landlord relations is from the 19th century -- in other words, laid down by British landlords and their parlementary cronies. By law, my landlord can suck me dry if I try to break the lease. They may forebear to do so, but it would be a grace granted by an understanding individual, not something enshrined in our laws. And this for a short-term, residential lease; woe betide any business trapped this way.